Advantages of Trade Accounts Receivable
1. Trade accounts receivable are not carried on the balance sheet because they are not replaced by their cash equivalent, and this improves the financial status of the originator.
2. The originator is not required to wait for receivables payments to be received. Thus, the originator can continue to obtain benefits even when payments are not made immediately.
3. Securities are rated much higher by rating agencies. This reduces the high interest associated with a lower ranking.
4. Assets and other liabilities can be coordinated and this eliminates the need for dividends.
5. It allows investors the opportunity to operate in capital markets that have better funding costs.
Disadvantages
1. Trade accounts receivable increase costs. This is because accounts receivable can only be securitized when the securitization process is capable of realizing their values.
2. As a result of the high level of flexibility, the securitization process can be used to securitize anything from credit cards to mortgages. Therefore, a compliance record in the region of 3-6 is required to be a creditable accounts receivable group. In addition, the terms of the loan guarantee are automatically reduced because the person seeking such a securitization needs to have a predictable and stable source of cash flow.
Steps to secure payment
Stanford and Poor’s Rating Services (nd) provides steps that can be taken to ensure payment such as:
one. Have a clear resolution period – Under normal conditions, common pools of trade receivables will be settled within two to three months, if the pools are relatively constant and all collections are taken for the purpose of paying debts. Investors must therefore have a clear, structured and agreed resolution period for any trade receivable.
two. Early amortization events – In order to increase the credit quality of the transaction, early amortization is adopted to discount the rolling period of interest only if reinvestment of investors’ cash flow becomes significantly less desirable and this may increase repayment because the reduction in interest will increase the speed of repayment.
3. Cash Flow Allocation – Most trade accounts receivable are based on the debt basis concept. In this approach, investors are entitled to receive a percentage of the proceeds that is equal to the amount invested on the basis of indebtedness. Therefore, it increases the payback to all investors on equal terms and increases the overall payback period.
Four. Eligibility Criteria – this defines the conditions for the pool and limits investors to high-risk receivables, reducing and potentially eliminating problems associated with non-repayment as investors who do not meet the criteria will not participate in the pool .